City of London (CTY ) fund managers Job Curtis and David Smith believe the UK’s new status as a share buyback powerhouse could encourage international investors to return to its neglected stock market.

The Janus Henderson UK equity income managers referred to a report from Barclays Capital that showed FTSE 100 blue chips bought back 2.2% of their shares in the year to May, whereas S&P 500 companies in the US, which has a stronger tradition of buybacks over dividends, repurchased just 1.5%.

The UK’s pick-up in buybacks has helped deliver strong capital returns, given the market’s 20% valuation discount to international peers. The managers said the FTSE 100 had beaten the S&P 500 since the Bank of England started hiking interest rates in December 2021. Morningstar data confirms the FTSE 100 has achieved a total 25% return against 23% from the US benchmark.

The UK’s outperformance has been short-lived as US technology stocks have rocketed since. However, Curtis noted that the UK has returned a lot of capital to shareholders through a ‘massive amount of buybacks’, as well as through handsome dividends.

‘It’s been a better environment for UK equities as high interest rates mean investors look at value stocks over growth. We’re starting to see that UK outperformance come through, but only just,’ said Smith, co-manager of Janus Henderson’s flagship trust.

The managers pointed to Citywire-rated insurer Aviva (AV), which they added to the £2.2bn portfolio in February. It offers a 6% dividend yield and 2% buyback yield, yet remains very cheap, with the shares priced at just 10 times earnings.  

‘You’re paid to hold on for a rerating in the UK,’ said Curtis (pictured), who has this month earned a Citywire AA rating for the performance of the trust he has run for 33 years.

Another example is tobacco company Imperial Brands (IMB), which bought back 7% of its market capitalisation and grew the dividend by 4.5%.

Trimming exposure overseas

In reflection of the value they see at home, the pair reduced exposure to overseas companies from 15% to 10% over the 12 months to 30 June, and bought luxury retailer Burberry (BRBY), Hilton Foods (HFG), car part distributor Inchcape (INCH), metal product producer Dowlais (DWL), which was spun out of aerospace manufacturer Melrose Industries (MRO), and BT Group (BT), annual results show.

The UK equity income trust generated an underlying return of 15.6%, ahead of the FTSE All Share’s 13%, although the shares delivered just 11% as they slipped from a premium to a discount to net asset value. Having issued £20.9m shares, the board had to buy back £34.4m towards the end of the financial year to tackle the discount. 

The portfolio of banks, energy companies and consumer goods names delivered earnings of 20.9p per share to cover the 20.6p dividend, which was increased for a record 58th consecutive year.

Banks were the main contributors to performance, including NatWest (NWG), HSBC (HSBA), Lloyds (LLOY) and Barclays (BARC), which delivered strong profits and dividends off the back of high interest rates.

The pair noted that banks have strengthened their ratios of capital (ie balance sheets) to risk in recent years. In addition, structural hedges taken out when interest rates were low should also be reset at higher interest rates when they mature, supporting greater profits in future.

Fashion victims

Burberry was one of the major detractors to performance, having plunged almost 60% since the pair bought in last November.

They admitted they stepped in too early, as the business’s slumping profits forced management to cut the dividend amid weak Chinese demand, but will hold on for the recovery. The position makes up about 0.2% of assets.

‘We can afford to have one or two positions that have suspended their dividends and can keep them for the recovery potential. We’re also happy to hold as it’s small, but we won’t be buying any more until we see firm evidence that it’s recovering,’ Curtis told Citywire.

Another detractor was financial services company St. James’s Place (SJT), which announced changes in the structure of its customer fees and a provision for compensation to those who had not had an annual review

The managers also noted that not holding Rolls-Royce (RR) hurt performance as shares in the company have soared. The company does not pay a dividend, but could enter the portfolio when it does.

Shares in the fund softened 0.6% to 439p on Wednesday, putting them on a 1% discount.

The board reduced fees from 0.325% to 0.3%, effective from January this year. If net assets exceed £3bn, fees will be reduced to 0.275%.

Over the last five years, shareholder returns total 36% while the FTSE All Share index benchmark has returned 34%, according to Morningstar.

Since Curtis started managing the trust in January 1991, shareholder returns total 1,740%, while the index has gained 1,348%.